Financial planning. We’ve all heard the term before but what does it really mean? Aren’t financial plans just for the uber rich? Well, I’m here to explain that you don’t need to have a 100 foot yacht with a helicopter landing pad on it to start thinking about putting together a financial plan.
Some financial plans are more complicated than others.
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They can range in cost from a hundred to tens of thousands of dollars when completed by an industry professional, depending on the complexity.
A good place to begin is to note that a financial plan is something just about anyone could use.
It is essentially a road map for you, which details where you are now and gives you action items to get where you want to be. Also worth noting is that it should not just be a tool used by an advisor to find ways to sell you more stuff. If you use an advisor to help you with your plan make sure you understand how they get compensated before you begin. I’d recommend looking for someone who is a fiduciary, which means they have to act in your best interests.
My goal is to help you to understand what a financial plan is and shed some light on the some of topics which should be included in it.
Let's get started.
What is a financial plan? A financial plan is an evaluation of your current financial state compared to your desired future financial state with action items to help you fill in any gaps.
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It is something that should not be rigid. It is a fluid document that should be reviewed annually and whenever an important life event occurs. What a financial plan is NOT? As I mentioned earlier, it shouldn’t just be used as a tool to sell you stuff. It is also not set in stone.
Why do you need a financial plan?
A financial plan is something that will help you clarify your goals and give you action items to help you achieve them. It will also help you be better prepared for life events.
General Patton once said “A good plan executed now is better than the perfect plan executed later.” I like that quote a lot. To me it means: have a plan, take action, and adjust as needed.
Earlier we talked a bit about a financial plan being a road map to help you achieve your goals.
The real value in the plan comes from the actions you take to get to where you want to go.
A general process in working through a financial plan begins with figuring out your goals, then looking at where you are now. After that you should assess the gaps, come up with strategies to overcome them, and specific action items to help you along the way.
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Goals- This is the fun part! These are financial goals. There could be many. You should assess each one separately. Start general and work your way into more specific goals. As you get more specific make sure you have a definitive way to measure your progress. You can adjust it as you go. Remember it is a fluid document after all. Each goal should have its own time frame as to how long you have to save for it and potentially how long it will take to spend the money saved.
Now that you have some goals in place, it’s time to assess your current situation.
The most important thing to do here is be honest. Take a solid inventory of where you are now. From there you can make some assumptions as to where you will be if you continue the current trends.
I recommend being conservative with your assumptions. It will only help you make better decisions as you go. Some questions to ask as you’re working through the assumptions include: How much will you be able to save with future income? Raises? Inflation? Benefits? Investment earnings?
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So far we’ve figured out goals and assessed our current situation. Next we need to address any potential gaps between where we are and where we want to be. With each goal come up with a strategy or approach to filling the gaps with specific action items to help you do it. There are several tools out there that can help you with some “what ifs”.
Part of figuring out specific actions items to help fill the gaps involves sticking to a budget.
I know, I know. I said the dreaded B word. A lot of people think of budgeting like dieting. When times are tough they tighten the belt and when money is flowing a bit more they forget all about where the money is going. I refer to that as yo yo budgeting. It’s similar to yo yo dieting where people lose weight while on a new fad diet then gain it back as soon as they stop.
If we just eat balanced meals, focus on moderation, and exercise we’d probably be better off than bouncing around to a bunch of different diets. It doesn’t mean we can’t ever eat chocolate. The same goes with budgeting. Budgeting does not mean you can’t have fun. It just means that you allot for where all your money goes. It is important to make sure you allot some for entertainment each month.
There are several tools out there to help you track your budget. Starting out I recommend doing it the old fashioned way, with a pen and paper. Every day for a month, write down everything you spend money on. You may be surprised when you see the results.
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After you have a solid log of spending, it is time to see where the opportunities are.
Check all of your fixed expenses. Are there any areas that could be scaled back? You never know until you ask. Check the variable expense. Are there any area that could be scaled back there? Once you find the opportunities to save, you make a budget for the next month. You can reallocate the savings towards your goals. Remember to make sure you continue to allot some for entertainment. Rinse and repeat.
Hopefully you now have a basic understanding of the first few elements of a financial plan, which focus on awareness. In a future post we will talk about saving, investing, and debt. Have a great day!
